CESR: Rating agencies still not following rules on structured products

The major credit rating agencies are broadly compliant with the code of conduct recommended by the International Organisation of Securities Commissions (Iosco), but are still failing to tighten the rules on structured product ratings, according to European regulators.

The Committee of European Securities Regulators (Cesr), in a report published yesterday, said that most of the larger European rating agencies followed the Iosco recommendations, but highlighted two areas in which all three of the largest - Standard & Poor's, Moody's and Fitch Ratings - fell short. The report was based on a comparison of published codes of conduct - Cesr did not attempt to determine whether the agencies actually followed their own rules.

Both failures were in the area of structured product ratings, which have come under intense scrutiny in the last two years since a huge number of top-rated structured products suffered rapid downgrades and losses in the financial crisis. Iosco recommended that credit analysts should not be allowed to offer advice on the structuring of products that their agencies rate - while all three agencies have codes of conduct forbidding this, they still allow contact between the issuer and their analysts in advance of the rating, which Cesr regards as a breach of the code.

Standard & Poor's, Cesr continued, has not fully separated its rating and consulting businesses, which presents the risk of a conflict of interest. Cesr comments: "although it notes that it has implemented a firewall policy it does not specifically explain why it has not implemented a legal separation. In CESR's view this is not a satisfactory explanation." The agency has also refused to release the information it uses to arrive at a ratings decision for a structured product, publishing only "a brief statement of its analytic rationale".

Both S&P and Moody's have also failed to differentiate ratings of traditional debt from ratings of more volatile structured products, Cesr said, although both have discussed approaches to this in the past.

In addition, four major rating agencies - S&P, Moody's, Fitch, and DBRS - have failed to follow Iosco's recommendation that they should note whether a structured issuer has publicly disclosed all relevant information about a product: they argue that this is up to the issuer and outside their control.

Cesr warned that the failures it detected could jeopardise the agencies' chances of being registered under incoming European legislation.

See also: Iosco blames crisis on rush for yield
SEC votes to tighten rules on rating agencies
Iosco says regulators should monitor and inspect rating agencies
S&P outlines "stability" changes to structured product ratings
Basel committee outlines reforms for rating agencies